Chapter

IV. The GAB in Operation, 1962-82

Author(s):
Michael Ainley
Published Date:
September 1984
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On the one hand, the General Arrangements have strengthened the Fund considerably. They have enabled the Fund to assist its largest members on an adequate scale. They have also allowed the Fund to preserve its ordinary resources, at least to some extent,64 for drawings by other members who do not belong to the Group of Ten. The Fund’s access to such a reserve pool of currencies has strengthened its authority and provided an element of confidence at times of crisis in the exchange markets. On the other hand, the General Arrangements have always been unpopular with nonparticipants. In addition, the participants’ inability to adapt the GAB to the far-reaching changes in the international monetary system after 1971 gave rise to growing doubts about its role and adequacy.

1. Activations

a. The 1960s

Between 1964 and 1970, the General Arrangements were activated six times to help the Fund finance four large drawings by the United Kingdom and two by France. Total Fund borrowing from the GAB in this period amounted to the equivalent of US$2,155 million, all of which had been repaid by August 1971. The details are shown in Table 2.

Table 2.Fund Financing Involving the GAB, 1964-70(In millions of U.S. dollars)
Financed by:
AmountPercentageFundPercentageFundPercentage
PurchasingPurchasedgoldcurrency
DateMemberGABof totalsalesof totalholdingsof total
Dec. 1964United Kingdom1,000405(41)250(25)345(34)
May 1965United Kingdom1,400525(38)400(28)475(34)
Nov. 1967United Kingdom1,400476(34)365(26)559(40)
June 1968France745265(36)182(24)298(40)
June 1969United Kingdom500200(40)50(10)250(50)
Sept. 1969/
Feb. 1970France985284 1(29)200(20)501(51)
Total6,0302,155(36)1,447(24)2,428(40)

This was the amount actually drawn from the GAB. It was less than the amount activated ($375 million), because the amount proposed for the Deutsche Bundesbank was reduced by 590 million following a change in the Federal Republic of Germany’s balance of payments.

This was the amount actually drawn from the GAB. It was less than the amount activated ($375 million), because the amount proposed for the Deutsche Bundesbank was reduced by 590 million following a change in the Federal Republic of Germany’s balance of payments.

The United Kingdom’s recourse to the Fund and the Fund’s recourse to the GAB to help meet the U.K. requests were not unexpected. The General Arrangements had, after all, been designed primarily to finance large conditional drawings on the Fund (in the so-called credit tranches) by the two reserve centers. The United Kingdom’s current account was weak for much of the 1960s, but the policy options, especially devaluation, were limited by the reserve-currency role of the pound sterling and the sizable overhang of sterling balances held in London, principally by Commonwealth countries. Pressure on sterling intensified from 1964 onward, and the U.K. authorities were forced into a series of measures, first to resist and then, in 1967, to support a devaluation. As well as borrowing from the Fund, these measures included BIS credits, central bank swaps, and payments restrictions.

The General Arrangements were also activated for France, in similar circumstances to those of the United Kingdom, first to resist a devaluation of the franc in 1968, and then to support one in 1969. The French balance of payments position was not strong at this time; and the devaluation of the pound sterling in November 1967 was followed by intense speculation in other currencies, in anticipation of more frequent parity changes, and by flights into gold, which led to the creation of a two-tier gold market in March 1968. Speculation regarding the exchange rates for the French franc and the deutsche mark continued through mid-1969, until the French franc was devalued in August and the deutsche mark was revalued in October.

In view of the GAB’s central purpose, it was perhaps surprising that they were not activated for the United States in the 1960s. On the other hand, successive U.S. administrations were unwilling, for domestic political reasons, to accept the conditions attached by the Fund to drawings in the credit tranches. The U.S. drawings in this period were made partly for technical reasons; they were all within the unconditional gold tranche; and they were financed without recourse to the GAB.65 The Fund was also able to finance drawings by other participants, notably in 1968-69, when the foreign exchange markets were extremely volatile, without using the GAB. The drawings were all within the gold tranche and were therefore relatively limited; and the Fund’s ordinary currency holdings were strengthened in early 1966 by a further general quota increase of 25 percent, together with special increases for certain “strong” countries.

b. The 1970s

The General Arrangements were activated three times in the 1970s. They were used to help finance large drawings, by the United Kingdom in January 1977, by Italy in May 1977, and by the United States in November 1978. The details of how the Fund financed these drawings are shown in Table 3.

Table 3.Fund Financing Involving the GAB, 1977-78(In millions of SDRs)
Financed by:
AmountPercentageSwissPercentageFundPercentage
PurchasingofNationalcurrency
DateMemberPurchaseGABof totalBankof totalholdingsof total
Jan. 1977United Kingdom3,36012,560(76)300.0(9)500(15)
May 1977Italy450 1337(75)37.5(8)75(17)
Nov. 1978United States2,275777(34)1,498(66)

Proposed but not fully drawn.

Proposed but not fully drawn.

The United Kingdom and Italy came to the Fund more than once in this period. From 1974 to 1976, Italy drew SDR 1,455 million under the oil facility and SDR 1,000 million under a stand-by arrangement. In late 1975, the United Kingdom drew SDR 1,000 million under the oil facility and SDR 700 million under a stand-by arrangement in the first credit tranche. The oil facility drawings were financed by bilateral borrowing from oil producers and industrial countries with balance of payments surpluses; the stand-by arrangements were financed out of the Fund’s ordinary currency holdings, which were adequate for the purpose.

But such assistance, much of it provided on easy terms, was not accompanied by sufficient adjustment to the effects of higher oil prices or by sustained efforts to deal with structural weaknesses. It did not, therefore, restore external confidence in the two countries’ policies or in their currencies, which remained extremely vulnerable through successive exchange market crises in 1976. First the United Kingdom, and then Italy, was forced by exchange market pressures and acute balance of payments problems to go back to the Fund for large amounts, on stringent conditions, when the latter’s liquidity was already under strain.66

The General Arrangements were also activated to deal with another crisis in the exchange markets. This time it was the dollar, which had depreciated sharply against the other major currencies from September 1977 through October 1978 despite a series of (unsuccessful) measures by the Carter Administration to turn the tide. In November 1978, the U.S. authorities mobilized the equivalent of US$30 billion, mainly in deutsche mark and yen, to defend the dollar; the package included large sales of SDR holdings and a sizable reserve-tranche drawing on the Fund.67

2. Principles and Practices

Despite their highly contingent character, the General Arrangements have been a valuable source of supplementary finance for the Fund, as the architects envisaged. In practice, as the various activations show, they have been available to cover conditional and unconditional drawings whenever a participant (not just a reserve center) was in serious difficulties, whatever the cause, and the Fund was, or was likely to be, short of resources.68 In each case, the objective of preserving the stability of the system has been interpreted very broadly by the Fund and the GAB participants.

Just as important, the activation procedures have operated with considerable flexibility. Informal advance consultations between the Managing Director and the participants have kept possible differences to a minimum. The elaborate safeguards in the Baumgartner letter have not had to be called on. The Deputies of the Group of Ten, normally meeting in Paris, have considered the policies and the balance of payments prospects of prospective GAB beneficiaries on the basis of reviews prepared in the OECD’s Working Party 3.69 Fortunately, these assessments by the Group of Ten have been similar to those of the Fund. The Group of Ten has only rarely sought to change the terms on which the Fund proposed to on-lend GAB resources. The Group of Ten has never objected to a proposal by the Managing Director, nor has it had to vote on such a proposal.

The activation procedures have also operated swiftly, owing largely to the close, informal links between Fund management and the Group of Ten’s Executive Directors in Washington, and to the regular contacts among the Group of Ten’s Finance Ministers and among their Deputies. The procedures were, in fact, accelerated in November 1978, when the General Arrangements were used to finance part of the emergency reserve-tranche drawing by the United States.

Similarly, the distribution of calls among the GAB participants has been settled informally, at each activation, on the basis of an initiative by the Managing Director. Haggling among the participants has been the exception rather than the rule. In practice, the participants were quick to develop a concept of solidarity to show their public support for the GAB beneficiary. As a result, almost all the participants were often included in a package, sometimes for nominal amounts, irrespective of the economic criteria. To date, the U.K. credit line is the only one not to have been called on by the Fund. (The distribution of the Fund’s calls are shown in Appendix V, Tables 5 and 6.)

Informality, but of a different kind, also prevailed in 1978, when the Fund’s calls on the GAB to finance the U.S. drawing were confined to two participants, the Deutsche Bundesbank and Japan. The United States particularly wanted to borrow deutsche mark and yen to help support the dollar. Although there was considerable discussion about the legality of doing so, the participants were willing to go along with the U.S. preference.

Other informal practices developed in response to the wishes of the participants. For example, (as Table 2 shows) the participants wanted the Fund to combine calls on the General Arrangements with use of its ordinary currency holdings, in order to avoid the impression of a “special fund” which enabled them to do without the Fund’s ordinary resources.70 Perhaps more significant was the practice of combining the Fund’s calls on the GAB, in the 1960s, with sizable sales of Fund gold to the participants, in exchange for needed currencies. These sales, for which there were respectable precedents,71 were made at the strong insistence of the Group of Ten for political, as well as economic, reasons. The Group of Ten felt that the Fund’s gold holdings should be mobilized to spread the financing burden. The members of the Group of Ten also wanted to acquire gold, which could be sold in an emergency, particularly as they were being asked to lend or commit an increasing proportion of their foreign exchange reserves to the Fund. The precise amount of gold to be sold was determined by the Fund, in consultation with the GAB participants, on each occasion.

These gold sales were not, however, popular with some of the Fund’s other members, nor with some of the Fund staff. Those who disliked the sales felt that the Fund’s gold stock should be preserved, as much as possible, to underpin the Fund’s financial position or for use, if at all, in a crisis affecting all Fund members and not simply for the benefit of a single member of the Group of Ten. The wish to economize on the use of the Fund’s gold was one important reason why the General Arrangements were not used more in the late 1960s.

In the late 1970s, however, the Fund was no longer in a position to replenish its stock of currencies through gold sales, an impasse arising from the tortuous compromises on the disposal of the Fund’s gold. The Fund, therefore, had to rely much more heavily on the GAB to finance the U.K. and Italian drawings than in similar circumstances in the 1960s (see Table 3). This reliance was heightened by the Fund’s shortage of usable currencies stemming from more frequent drawings by the non-oil developing countries and delays in ratifying the quota increases that had been decided on during the Sixth General Review of Quotas. In the event, the stand-by arrangements with the United Kingdom and Italy were remarkably successful in promoting a rapid restoration of confidence in both countries; and the amounts actually called from GAB participants and the Swiss National Bank were considerably less than the amounts proposed.72

3. Critics

Although the General Arrangements were useful for the Fund, and although they operated flexibly, the controversy over gold sales (described earlier) was only one example of the GAB’s unpopularity. They have always been controversial.

From the outset, the Executive Board was “not enthralled” by the arrangements, and some members were “overtly critical” of the nonglobal aspects.73 Several countries, and not solely developing countries, resented the GAB because they were exclusive. The number of participants was limited, and they had agreed to lend to the Fund only to finance their own transactions with it. Second, the General Arrangements were seen as reducing the Fund’s authority. They were only an agreement to agree. They gave a small club of rich members an effective veto over important decisions by the Fund to enter into transactions. Third, the General Arrangements, and the Baumgartner letter in particular, were the raison d’etre of the Group of Ten, which began, very quickly, to play a much greater role in discussing Fund issues. Indeed, many of the studies of international liquidity, and the main negotiations which led to the creation of the SDR in 1969, were conducted within the Group of Ten. This later prompted the developing countries to form their own group, the Group of 24, in November 1971, initially to ensure that their voice would be heard in the negotiations, which were then getting under way, on international monetary reform and also to protect the interests of the developing countries in the monetary field more generally.74

These (understandable) concerns were not dispelled by arguments that the participants had acquired new responsibilities and not just new rights, or that the existence of the GAB left more of the Fund’s ordinary resources available for transactions with other members. These concerns were another important reason why the General Arrangements have not been used more frequently. There has been a widely shared feeling, among nonparticipants and among the Fund staff, that the Fund should not go “cap in hand” to the Group of Ten if this could be avoided.

These concerns have persisted to the present day. The developing countries, in particular, have acquiesced only reluctantly in successive renewals of the GAB. They have periodically called for the Fund to rely more on its ordinary quota-based resources or for replacing the General Arrangements with broader borrowing arrangements available to all Fund members.

4. Reforms Postponed

The participants themselves re-examined the GAB on several occasions before 1982, but very little came of it.

In 1965, for example, prior to the first renewal, the possibility of relaxing or abolishing the requirement that the international monetary system be in danger of impairment and the possibility of simplifying the activation procedures were raised. But the discussions were inconclusive. In mid-1968, before the second renewal, the Fund staff and management saw merit in far-reaching changes, such as increasing the individual credit lines or admitting new participants. But they suspected that the participants would not be receptive. They were right. Again, in 1969 and 1970, the Fund toyed with updating the GAB following the First Amendment of the Articles of Agreement. But, although some of the proposed changes were seen as perhaps desirable, the Executive Board saw no urgency.

The participants’ reluctance to change things in the 1960s was, in many ways, understandable. The General Arrangements were still relatively new, and they had served their purpose adequately. They remained a valuable defense against temporary strains in the Bretton Woods system.

In the 1970s, however, the General Arrangements were operating in conditions very different from those for which they had been designed. Their role, and that of the Fund itself, was much less clear cut. The par value system was replaced by a nonsystem75 of more or less managed floating exchange rates among the major industrial countries; and the world economy experienced profound changes in the wake of the major oil price increases in 1973-74. The authority of the Fund was weakened, particularly in the area of exchange rates, and its resources were limited relative to the scale of the oil-related imbalances. The Fund’s ability to influence, much less control, the process of international liquidity creation was overtaken by the unparalleled expansion of the Euromarkets, which assumed the task of recycling the oil surpluses to deficit countries.

At the same time, the oil price increases in 1973-74 and 1979-80 shifted the balance of economic and financial power away from the GAB participants. In the 1970s, the Fund borrowed extensively, but the Group of Ten was no longer the sole, or even the main, provider of supplementary resources. The Fund relied more on the oil producers, and Saudi Arabia in particular, to finance first the 1974-75 oil facilities; then the supplementary financing facility; and, more recently, the enlarged access policy.

Against this background, the General Arrangements declined in relative size and importance. Even after the increase in Japan’s credit line in 1976, the GAB’s overall size remained very close to what it had been in 1962, because of the effects of exchange rate changes on the value of the individual commitments (measured in SDRs). Although the credit lines of the Deutsche Bundesbank and Japan increased as the deutsche mark and the yen appreciated against the SDR, those of the United Kingdom, the United States, and Italy fell sharply. By mid-1982, the General Arrangements totaled some SDR 6.3 billion, which was equivalent to only 20 percent of participants’ Fund quotas, compared with 60 percent in 1962, and to only 2 percent (15 percent) of their reserves. Thus, although the General Arrangements were used in 1977-78, it became increasingly doubtful whether their resources were sufficient for the original purpose of impressing the exchange markets and preventing crises.

Not surprisingly, therefore, there was more talk of reform. But little was accomplished. In 1975, at the time of the third renewal, only two noteworthy changes were made—namely, the higher interest rate formula and the extension of the media in which the Fund could pay interest and repay creditors.76 As in the past, the Fund staff considered radical reforms. These included increasing both the amounts and the number of currencies which participants would lend, ending the restriction on use of the GAB to finance drawings by only the Group of Ten, and widening the range of circumstances in which the Fund could call on the GAB. The more far-reaching possibility was also raised informally with the participants of replacing the GAB with bilateral credit arrangements, between the Fund and the major industrial countries, on the lines of the 1974 oil facility. This would have given the Fund more flexibility than it had under the GAB.

But these proposals came to nothing, in part because the Fund’s management did not wish to provoke controversy and protracted negotiations which might have jeopardized renewal of the GAB. Some of the proposals would have required new legislative authority which might not have been easy for certain participants, particularly the United States, to obtain. Several members of the Group of Ten preferred to keep the basic elements of the GAB unchanged as an agreed basis for joint action in a crisis, rather than starting again with a new, and untried, set of arrangements.

In 1977-78, the General Arrangements were updated to conform with the Second Amendment of the Articles of Agreement. The updating was, however, confined to a limited number of essentially formal changes which followed more or less automatically from the new Articles and consequent changes in Fund practices. More importantly, the role of the GAB was reviewed by the Deputies of the Group of Ten in April-September 1978. The review was ostensibly far-reaching, but the results were not.

More specifically, the participants concluded that the General Arrangements had, on the whole, worked quite well, and that they should be maintained as a potentially valuable means of additional financing for the Fund. They were, however, unable to agree on even a modest increase in the total size of the GAB. Some were prepared to accept this, on certain conditions; but the most powerful participants, the United States and the Federal Republic of Germany, favored the status quo. The inability of participants to agree on this question ruled out any attempt to rearrange the shares of individual participants.

Other, more radical proposals received even less support. There was no enthusiasm for including new participants, such as other OECD countries or the oil producers in structural balance of payments surplus. This lack of enthusiasm was not new. Although individual participants were prepared, at different times, to consider new participants—Austria, Spain, and others—there were always one or more opponents. The Group of Ten thought that the cohesion of the participants was a major reason for the effective functioning of the General Arrangements, the implication being that they could become less effective if the circle of participants was ever widened. At most, the Group of Ten thought that it might be useful to exchange views, periodically, with lenders to the Fund under other borrowing agreements, but no action was necessary at that time.

Similarly, the participants felt that access to the GAB should continue to be limited to the Group of Ten countries. In part, this was because the GAB appeared, by then, to be inadequate to finance concurrent drawings on the Fund by the Group of Ten, let alone other countries. The participants also felt that the Fund could run into liquidity problems, in meeting Group of Ten drawings, if the General Arrangements became a frequently and regularly used part of Fund resources.

It was also impossible for the participants to reach a consensus on a new interest rate formula for GAB loans. Some wanted a higher, market-related rate, but others thought the Fund should receive net income from GAB-financed loans. Some were prepared to forgo all or part of the transfer charge to benefit the Fund’s financial position, but most wanted to keep it. The compromise provisions adopted in 197577 were therefore retained.

It was also decided not to change the denomination of the individual credit lines from national currencies to SDRs. Although it was recognized that exchange rate changes, particularly since the breakdown of the par value system, had had an uneven impact on the distribution of the financing burden, some participants felt that changes in the SDR value of these credit lines reflected changes in the underlying capacity of participants to provide financing.78 Some participants also saw practical and legal problems in changing to SDR denomination. So nothing was done.

The only changes which were made were relatively minor. The first was to enhance the liquidity of GAB claims by making them more easily transferable among participants. 79 The second was an understanding to permit, on an ad hoc basis, GAB loans to remain outstanding longer than five years if the related Fund credit to a participant was granted for longer than five years. This was to cover the possibility of the Fund granting an extended arrangement, with longer repayment provisions, to a participant. But this has not happened so far.

The General Arrangements therefore stayed virtually the same from 1962 to 1982. There were, perhaps, three main reasons for this inertia, particularly in the 1970s. First, the participants viewed the Fund as a less necessary line of support in this period. The shift from fixed to floating exchange rates provided the participants with a wider range of policy options. There was less need for them to defend a particular exchange rate, less need to approach the Fund to support such action, and less need for the Fund to use the General Arrangements.

Second, the rapid growth of the Euromarkets as a source of credit to country borrowers offered a more expensive but unconditional alternative to Fund borrowing. The expansion of the Federal Reserve’s swap network and the creation of new short-and medium-term financing facilities by the European Community also provided other sources of official credit for the main industrial countries. The tendency for these countries to make their own financing arrangements outside the Fund, except in extremis, was reinforced by changes in the Fund’s operations which limited its ability to accommodate potential drawings by these members. The establishment of new lending facilities, the liberalization of existing ones, higher access limits, and a rush of developing country borrowers combined to place serious strains on the Fund’s resources throughout the 1970s. The strains would have been considerably greater if the Group of Ten participants had used the Fund’s resources as frequently as they had in the second half of the 1960s.

The third, more general reason was the reluctance of the most powerful industrial countries to take on new international commitments at a time when their own economies were making the difficult, often painful adjustment to rising inflationary pressures, higher oil prices, and deep-rooted structural imbalances. This more inward-looking approach and the preoccupation with immediate domestic concerns were not confined to the major industrial countries, nor were the General Arrangements the only casualty. In the 1970s, international monetary cooperation was limited mainly to short-term crisis management. The Fund was able to establish new facilities to deal with specific problems and to borrow, temporarily, from surplus countries. But Fund quotas lagged seriously behind the growth of world trade and the rapid increase in capital movements. The SDR—which was supposed to develop into an important, internationally controlled reserve asset—finished the decade as a relatively minor supplement to members’ reserves. Similarly, discussions within the Fund on devising a more orderly set of exchange rate arrangements for the major currencies made very little progress.80

In retrospect, therefore, the political will which had been vital in establishing the GAB was in rather short supply among the major industrial countries. However, the General Arrangements were still in existence. They remained potentially valuable, and the pressures for reform were building up. In 1982, these various strands came together.

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